China: The NDRC Flexs Its Muscles - How To Mitigate Price Fixing Risk In The New Era

China is growing into its role as a major economic power, and
the competition regulators are stepping up to the plate. Merger
control filings exceeded 200 in each of the last two years, and
conditional clearances have imposed both structural and behavioral
remedies. But merger control clearance is but one of the
competition regulatory controls that China now employs. Fair
pricing is the remit of the NDRC, and recent developments show that
the NDRC is stepping into retail price maintenance and is forging a
path to curtail international cartel behaviors. Each of these
developments signals the maturing nature of the NDRC's role.
And each counsels for heightened care across the board, including
care with contracts, rigorous compliance programs and clear whistle
blowing policies and procedures.

Retail Price Maintenance

With slightly over twenty investigations of retail price
maintenance under its belt, the NDRC made headlines with two
proceedings involving leading Chinese liquor brands, Maotai and
Wuliangye. The NDRC went after each for illegally fixing minimum
prices for distributor resales. The regulatory basis for
sanctioning anti-competitive vertical price restraints is clear. In
each case, the provincial arm of the NDRC took action. Maotai
handed over RMB247 million in penalties, and Wuliangye, RMB202
million.

The fact that the provincial offices of the NDRC were on the
front line is of some interest. It seems that the offending
price-fixing in each of the Maotai and Wuliangye matters was
widespread, and possibly nationwide. The central level NDRC may
have played a coordinating role, but at the end of the day, the two
provincial NDRC offices took action. It will be interesting to see
if this pattern continues going forward, with local and provincial
offices taking the lead, even when the sanctioned vertical
restraints on pricing are broadly applied across regional and
national markets.

The penalties, while unprecedented in China, have been widely
viewed as quite low. In the Wuliangye case, the provincial
NDRC's published announcement specifically stated that the
amount represented one percent of the related sales revenue, the
regulatory minimum. The minimum amount was imposed based on the
full cooperation given by Wuliangye. Similar considerations seem to
have been at play in the Maotai case as well. Interestingly, the
one percent penalty referred to "related" sales revenue
without specifying how "related" revenue was defined for
purposes of the calculation. Perhaps only specific products
involved? The published announcement mentioned that minimum prices
were set with distributors on a national basis, and seemed to cover
the period beginning in 2009. Was "related" sales revenue
calculated for the entire period? These and other questions
regarding remedies remain unclear, and await further published
actions or additional guidance from the NDRC.

International Cartels – No Free Ride in China

Visible enforcement of fair pricing rules has not been confined
to the domestic market. The NDRC has also gone after horizontal
price fixing cartel arrangements. Earlier this year, it imposed
penalties of RMB353 million on four Taiwanese and two Korean LCD
manufacturers for their participation in an illegal price fixing
cartel agreement. This LCD case is reportedly the first time the
NDRC has pursued multinational companies. The penalties in China
followed after action was taken against the cartel in other
jurisdictions, including the United States and the European Union.
From this case, it seems apparent that China, through the NDRC, is
stepping on to the international stage, and expects to play a role
in policing international cartels. The LCD investigation was
extensive, spanning several years and likely provided the NDRC and
its staff with a broad range of useful experience. We can expect
that this experience, and this precedent, will be put to further
use going forward, as the NDRC takes its place among the major
global regulators battling international cartels who engage in
horizontal price fixing to the detriment of the market.

Interestingly, the LCD cases also imposed behavioral
requirements on the offenders. They were required to commit to the
general requirements of fair dealing in price setting in the
Chinese market, and to provide extended warranty periods for
products sold in China. The imposition of these behavioral
requirements may echo the approach taken in certain high-profile
conditional merger control approvals recently announced by MOFCOM.
Perhaps this congruent approach signals a policy, on the part of
both regulators, to mandate terms that they each deem appropriate
in an effort to protect the orderly functioning of the domestic
market.

Can we expect to see more cases similar to the LCD case? We
believe that is likely. Accordingly, if there is any regulatory
action outside of China aimed at an alleged international cartel
affecting your business, self-reporting in China should be
carefully considered at an early stage, to lay the foundation for
lenient treatment by the NDRC.

Contracts – Key Considerations

In the retail price maintenance context, the NDRC identified a
number of practices that led to sanctions. The most obvious is the
express mention of a minimum price. But the offending behavior did
not stop there. There were additional features to some of the
programs, including contractual rights to penalize distributors who
did not comply with the minimum pricing requirement. Direct
monetary penalties were involved, as well as the reduction or
withdrawal of sales support services and the possibility of
limiting additional supply. What is not clear, however, is whether
one of these features alone, or some combination of them, would be
sufficient to support the imposition of penalties. The prudent
seller will no doubt exercise more caution with its distributorship
contracts. That said, even if those contracts do not raise price
fixing issues on their face, subsequent performance of those
"clean" contacts could also lead to the same results.
Accordingly, while important, a clean paper trail, by itself, may
not serve to mitigate the risk of an investigation, and the
imposition of penalties based on behaviors and expectations arising
during the course of performance of a distributorship relationship.
In short, we can expect that substance will trump form as the NDRC
continues to police illegal price fixing activities.

The New Landscape

Several lessons should be learned from these developments.
Leniency for cooperation underlies the Maotai and Wuliangye cases.
The regulations expressly give the NDRC a significant degree of
discretion to reduce penalties to reward cooperative behavior
during investigations. More than this, however, the rules also
encourage whistle blowing, and state that successful whistle
blowers, who are themselves culpable, may have penalties reduced or
waived in appropriate cases. These features of the rules apply
across the board, and it appears that the NDRC is taking them
seriously. These tools, when well deployed, significantly increase
enforcement, mobilize private resources to assist the regulator and
ultimately have a deterrent effect that may be nearly as powerful
as larger monetary penalties might eventually become. Moreover,
although we have yet to see significant activity in this area, the
rules provide private rights of action for those harmed by illegal
price fixing activities. In short, as the NDRC continues to flex
its muscle, we would expect that these aspects of the regulatory
regime will contribute to more self policing across industries.

Some uncertainties linger on the substantive law. The relevant
rules, on their face, appear to strike a balance between a per se
violation approach, similar to the European Union, and a rule of
reason doctrine similar to the approach espoused by the US Supreme
Court. Specifically, for both horizontal and vertical price fixing,
the prohibition is first clearly set out, followed in a separate
section by exceptions that would excuse the otherwise illegal price
fixing behavior. Accordingly, on their face, the rules appear to
provide something akin to an affirmative defense, once price-fixing
has been established.

A current private right of action case in Shanghai squarely
raises this issue. The court of first instance held that the
plaintiff was required to produce evidence demonstrating the
anti-competitive effects of the defendant's alleged price
fixing activities, evidently viewing anti-competitive effects as an
essential element of the claim. The case is currently on appeal,
and although the outcome cannot be predicted, it would seem that
this approach may not be consistent with regulatory framework.
However, regardless of the outcome of the Shanghai case, additional
judicial interpretations and nationally applicable regulatory
guidance will be needed to fully clarify this fundamental
point.

The Way Forward

The NDRC, like MOFCOM, is showing its strength in policing and
penalizing illegal price fixing arrangements, both vertical and
horizontal. This trend can be expected to continue, and mitigating
risk requires a proactive approach. The first step involves a
careful review of all affected contracts and documentation, but
that is not the only measure needed. Equally important is raising
awareness of various practices, outside of what is embodied in your
contracts, which could give rise to an allegation of price fixing.
A robust training program should be in place, and it should be
coupled with whistle blowing policies and procedures designed to
alert management to potential assertions of non-compliance in
advance. Moreover, if regulatory actions that may affect you are
being taken in other jurisdictions, early consideration of
voluntary disclosure in China is warranted. Leniency for
self-reporting, whistle blowing and full cooperation in any NDRC
investigation can be expected, and should be sought, as
appropriate. Finally, as with other Chinese competition laws and
regulations, management should keep abreast of developments,
particularly those with potential wide-ranging effect on your
business.

The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.

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It is abundantly clear from the above case that the Government in today's world endorses fast growth and high competition in the business industry, not only the taxi industry.

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